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June 20, 2006

The Fool's Overture
by Rob Kirby

Casual Conversations

Having spent the bulk of the 1980's and 1990's involved as a broker, in institutional capital markets; I was privy to some of the most brilliant financial thinkers of their time. One such thinker [a Ph. D. in mathematics] was largely responsible for building the computer models - in the early 1980's - that allowed the global banking concern he worked for to "account for and book profits" on their global interest rate derivatives positions [interest rate swaps and FRA's]. This individual also just happened to be the "co-book runner" or co-trader of one of the world's very largest interest rates derivatives books at the time. While being of Polish extraction and he did speak in broken English; this gentleman was well known in the market to be an utter genius.

Now, I'd like to take you back in time to the summer of 1987. I was at lunch at a fashionable eatery [there were 4 of us] with my boss, my derivatives trading client and his workmate. Over small talk about the state of the economy and the near term direction of interest rates, our Polish mathematician blurts out, "I can see a day when the stock market [DOW] goes down four, five or six hundred points - no problem." Needless to say, the other three of us sitting at the table nearly choked on our tongues. After questioning our friend as to his rationale for such a bold statement [the DOW was at 2,000 at the time] he explained that Portfolio Insurance was, in fact, THE reason why the stock market would suffer a decline like he had just described.

Understand that Portfolio Insurance had been designed largely by mathematicians and, when employed, resulted in computer generated equity trades that "sold" ever increasing amounts of a user's stock portfolio as the index level [DOW] declined ostensibly as a hedge to "protect" the value of what remained. Our Polish friend had studied and modeled the assumptions that under laid not only the concept but its execution.

What he found was a critically flawed system - in widespread use - that in effect turned the equity market into a tinder box with a short fuse. The faulty assumption that belied Portfolio Insurance was that the stock market behaved in a "linear fashion" and, in effect, incorrectly assumed that there would "always" be a bid. All that was required to ignite the whole shooting match was a spark. Needless to say, less than two months later that spark appeared and the stock market dropped more than 500 points [about 25 %] on that fateful Monday.

Amazingly, virtually no players in mainstream finance ever saw the folly in a program that they placed their complete faith in. The attempts to remedy the shortcomings of Portfolio Insurance in the aftermath of the 1987 crash involved the installation of "Circuit Breakers" - which curb/cease computer assisted or all exchange trading after milestones are reached on the up or downside on the relevant indexes. Perhaps of more relevance, by virtue of Executive Order 12631, on March 18, 1988 - this led to the establishment of the Working Group on Financial Markets or the Plunge Protection Team [PPT].

Depending on the extent of official intervention, the remedial actions outlined above go a great ways to remove the nonlinearity from financial markets. Ultimately, markets that are regulated by omnipotent organizations like the Federal Reserve and the Working Group, armed with the ability to print unlimited amounts of cash out of thin air and buy and sell equity futures at their own discretion - would seem to have the ability to keep a lid on, or at least maintain financial markets with a semblance of order. Heck, we even recently learned,

"The President just delegated authority to John Negroponte that allows him to exempt any publicly traded corporation that is working on national defense issues or national security issues from the reporting and accounting requirements under the 1934 Securities and Exchange Act. It's basically the rules and regulations that require companies to keep accurate records, accurate books, accurate accounting ... and then disclose those projects and that information to investors......" [RK emphasis]

Make no mistake folks, what is outlined above IS CATEGORICALLY NOT A DESCRIPTION OF FREE MARKETS, or at least, not the kind of free markets that I was ever taught about. The markets outlined above would make any devote Communist "drunk with central planning envy". It's that simple.

So, on the surface - everything might seem to be in place to allow the PPT to perpetuate this illusion of Free Markets behind their Houdini-esque Central Planning Charade. Funny thing; most of us have been taught to believe that Central Planning is destined to failure. As Sir Alan Greenspan himself once said,

"Centrally planned economic systems, such as that which existed in the Soviet Union, had great difficulty in creating wealth and rising standards of living. In theory, and to a large extent in practice, production and distribution were determined by specific instructions--often in the form of state orders....."

Has anyone stopped to notice that the U.S. now creates more debt than wealth and living standards are now falling?

Lord Is It Mine?

A rising price of gold and silver has historically "blown the lid" off deceitful practices of monetary authorities when they debased their currencies [printed too much money]. Nowadays, in a world whose trade is dominated by paper/derivative or proxy trade, the bulk of precious metals trade customarily takes place on 'futures exchanges' like COMEX [a division of NYMEX] or the London Bullion Market Association [LBMA]. In such an environment, nefarious activity like the suppression of bullion prices is possible since, HISTORICALLY, the vast majority of trades are settled in fiat currency. This historic truth is largely due to market participant's acceptance to speculate on price movements in the underlying commodity, trusting the value of the settlement currency, the dollar, - instead of opting to take delivery and hold physical metal - or real money.

We know that physical gold and silver IS REAL MONEY because Section 10 of the Constitution for the United States of America tells us this is so.

Oh Darling

If you have ever seen The Wizard of Oz, you would be aware that when Dorothy and friends go before the omnipotent and all powerful Wizard; - it's Dorothy's dog, Toto, who ultimately reveals the Wizard - hiding behind the black curtain - exposing his trickery.

Well folks, I'm going to bet all of my chips that the dog in this developing story is going to end up being "PHYSICAL PRECIOUS METAL - GOLD AND SILVER". Unlike fiat money, which can be printed in "any amount" out of thin air, physical gold and silver must be mined from the earth. Recent bouts of reckless money printing - particularly on the part of U.S. monetary authorities - have re-ignited not only private investment but global Central Bank demand for physical metal as a means to diversify their foreign reserve U.S. dollar holdings.

The trouble with this development, for the status quo, is that the world already had/has a structural supply/demand deficit where total supply [mine supply, which is shrinking, and scrap gold] was already 1,500 tons per year below global demand. This shortfall has been made up by dis-hoarding of Western Central Bank vaulted gold stocks for at least the past 10 years.

Asylum?

The World Gold Council publishes data suggesting that Central Bank's vaulted stocks are in the magnitude of 30.5 thousand tons of gold bullion. However, there are many who dispute this claim. But it's worthy of note that the World Gold Council either dismisses or suggests investment demand is of little or no consequence as their latest report [Q1-06] shows:

Where is Central Bank Buying Recorded?

You see folks, the World Gold Council - self professed as the world's authority on gold - has Identifiable Investment demand BARELY RISING in 2005 and actually declining year over year in Q1/06 despite this UBS report:

Russia leading global 'stealth demand' for gold
By Ambrose Evans-Pritchard (Filed: 05/06/2006)

The world's big money brigade is snapping up gold bullion at eight times the rate originally thought, according to a report by UBS, the world's biggest gold trader.

The huge sums entering precious metals below the radar are likely to help to put a floor under the gold price after the dramatic fall of $112 an ounce in late May - the sharpest correction since the bull market began five years ago.............

THAT WAS 8 X THE RATE ORIGINALLY THOUGHT!!!! The World Gold Council reporting is COMPLETELY INCONSISTENT with IDENTIFIABLE, additional, reliable third party reporting,

"To forestall an effort by the West to seize Iranian assets in Europe, the Iranian leadership decided last fall to begin a massive, secret repatriation of its international currency reserves, according to Central Bank of Iran documents.

The documents were obtained by an Iranian opposition group and shared with Newsmax.

The documents detail eight shipments in chartered jumbo jets from Zurich's Kloten airport. The shipments, from October through late November, brought 250 tons of gold bullion from the vaults of Swiss banks to Tehran. "

The World Gold Council is so brash; in a crass attempt to absolve themselves of this blatant misreporting, they even go so far as to include in notes to the table above,

"Source: Tonnage data are GFMS Ltd. Value data are WGC calculations based on GFMS data. 1. Identifiable end-use consumption excluding central banks."

Exclude hundreds of tons of Central Bank Buying from identifiable end demand? This is OUTRAGEOUS! But is gets even worse! The reality folks; blatant efforts were made to actually cut Iran off from buying more gold, when it was announced on Jan. 22, 2006

"Swiss banking giant UBS AG said Sunday it has stopped doing business with Iran because of the company's economic and risk analysis of the situation in the country. UBS will no longer deal with individuals, companies or state institutions such as Iran's central bank, said company spokesman Serge Steiner. A similar policy is also being implemented in the case of Syria, he said......"

Crime of the Century?

How can ANYONE accept this kind of DECEPTIVE misreporting from the World Gold Council? This article, ALONE, readily identifies at least 250 TONS of [NEW] gold bullion purchases in Q4/05 while the world's "supposed" authority on gold says "net identifiable investment" was 154 tons? Claims of ignorance to this development could represent nothing short of Enron-esque effrontery on the part of the World Gold Council. What a sham! Actually, I'd really like to know why they bother publishing any numbers at all?

This blatant misreporting sheds light on the true nature of the tricks being played on an unsuspecting investing public where demand [and by extension the amount left in the vaults] for physical gold is and has been concerned. Armed with the knowledge outlined above, GATA has long maintained that the reported tonnage of gold held in Central Bank's vaults is much less than officially reported - with much of it being already lent out or swapped. In fact, in April 2006 the IMF published a paper, admitting that some of Central Bank hoards of monetary gold have in fact been "double counted". Not a word from the World Gold Council on that, eh?

So folks, despite the recent plunge in the price of gold, it is really quite apparent that physical demand is stronger than ever. The games that are being played are largely being done in the paper [futures] market with noble assistance from "wolves in sheep's clothing" shills like the World Gold Council. These absurdities will CATEGOROCALLY come to an abrupt end when the quickly dwindling physical gold is gone.

Breakfast In America or Crisis, What Crisis?

If recent GATA suspicions that 450 - 525 tons of physical sovereign [U.S. gold on deposit at the I.M.F.] gold were mobilized with the Bank of England acting as sales agent to "bomb" the price of gold from its recent +700 dollar high, these games will not be played for much longer folks - you see, 500 ton caches of gold bullion are already rare birds and becoming more endangered every day.

I would like to add that if the above is true it also says much to the technicians out there who have been all too quick to claim that gold [and the metals complex] was due for such a correction. Metals prices have advanced due to the recklessness [to much printing] of monetary authorities - PERIOD. Claims that ANY MODEL accurately predicted the expulsion of an unexpected, illegal 500 ton dump of gold onto the market are baseless and without merit. If American I.M.F. gold was indeed mobilized, it would also appear that the requisite Congressional approval to do so was not sought. What a mess [or perhaps Constitutional Crisis would be more appropriate]!

If the world's gold producers have any interest, whatsoever, in promoting their product - they need to immediately sack The World Gold Council as their "advocate" for gold. THEIR CREDIBILITY IS LESS THAN ZERO. With friends like the World Gold Council, the world's gold producers certainly do not need any more enemies.

I've got a funny feeling that gold price suppression will ultimately have an end which will be much more financially devastating than Portfolio Insurance back in 1987. It's a simple case of the underlying assumptions [that there will always be enough sovereign physical gold to sell] are FALSE.

Seller beware!

Rob Kirby
Kirby Analytics